Fed stays on track with bond buying, for now

Washington, August 1, 2013

The Federal Reserve on Wednesday said the US economy continues to recover but is still in need of support, offering no indication that it is planning to reduce its bond-buying stimulus at its next meeting in September.

Wrapping up a two-day gathering, the central bank said it would keep buying $85 billion in mortgage and Treasury securities per month in an effort to strengthen an economy that it said was still challenged by federal budget-tightening.

The Fed made three notable adjustments to its post-meeting statement, which economists said gave it a dovish tilt.

First, it slightly downgraded its view of the recovery, calling the pace of growth "modest" rather than "moderate," as it had consistently for most of the past year.

It also noted that mortgage rates had risen, implicitly flagging this as a potential headwind to the housing recovery.

And, importantly, it nodded to the potential dangers of inflation running too low - an addition that apparently secured the vote of St. Louis Federal Reserve Bank President James Bullard, who dissented in June over worries about ebbing price pressures.

"The committee recognises that inflation persistently below its 2 percent objective could pose risks to economic performance, but it anticipates that inflation will move back toward its objective over the medium term," the Fed said.

Economists expect the Fed to reduce its bond-buying pace in September, but the changes create wiggle room for the Fed if data before then does not point to a strengthening economy.

The Fed's statement gave stock prices a brief lift, but they closed lower on the day, while prices for US government bonds edged higher and the dollar fell.

"The statement was mildly dovish, since the (Fed) did not provide a more detailed timetable for tapering asset purchases and offered no additional or new guidance on the taper," said Scott Anderson, chief economist of Bank of the West in San Francisco.

EYE ON PRICES

Esther George of the Kansas City Fed voted against the bond-buying decision due to concerns about potential harm to financial stability from the central bank's prolonged easy monetary policy, as she has at every meeting this year.

The Fed cut interest rates to almost zero in late 2008 and has since more than tripled the size of its balance sheet to around $3.6 trillion via three massive rounds of bond buying aimed at holding down longer-term borrowing costs.

At a news conference on June 19, Fed Chairman Ben Bernanke said the central bank likely would start to curtail its current round of purchases later this year, with an eye toward bringing them to a close by the middle of 2014.

A government report on Wednesday showed the US economy expanded at a faster-than-expected 1.7 percent annual rate in the second quarter, but the growth figure for the first quarter was revised down to 1.1 percent from 1.8 percent.

Further, the report showed consumer prices held steady in the quarter, with so-called core prices advancing at a 0.8 percent pace, well below the Fed's 2 percent target.

Even as it tiptoes toward a curtailing of its bond purchases, the Fed has gone out of its way to stress that any pull-back would not mean it was anywhere near jacking up interest rates.

In another slightly dovish adjustment to its statement, the Fed "reaffirmed" on Wednesday its view that ultra-easy monetary policy would be needed for a considerable period after bond buying ends.

However, the Fed made no change to the key thresholds of its forward guidance on rate lift-off, repeating it will hold rates near zero for as long as the unemployment rate remains above 6.5 percent, provided the outlook for inflation between one and two years ahead is not projected to rise above 2.5 percent.

The jobless rate stood at 7.6 percent in June, and economists expect a report on Friday to show it ticked down to 7.5 percent in July.

Despite the Fed's best efforts to use its forward guidance to hold down longer-term borrowing costs, markets have responded to talk of a likely reduction in the central bank's asset purchases by selling bonds.

The yield on the benchmark 10-year US Treasury note stands about a full percentage point above where it was in early May. Mortgage rates have risen a similar amount.

"Household spending and business fixed investment advanced, and the housing sector has been strengthening, but mortgage rates have risen somewhat and fiscal policy is restraining economic growth," the Fed said. - Reuters